Ethics & Public Policy Center

The White House and Congress are inching closer to a conversation about serious entitlement reform. A good place to start would be how to replace the over-hyped Medicare accountable care organization (ACO) concept, enacted in Obamacare, with a reform idea that would actually work.

The Obama administration has repeatedly cited ACOs as evidence that Obamacare was more than just a coverage expansion measure. ACOs are supposed to be integrated health plans, with hospitals, physicians, and other health services providers working together in a coordinated patient delivery system. The public was told that ACOs, along with a few other “delivery system reforms,” would transform the way hospitals and physicians interact with patients and thus slow the rate of growth of the nation’s health spending while improving quality. In sum, ACOs were promoted as a key to a better and more affordable health system.

Yet there never was any evidence to back up these grandiose claims. Indeed, in its cost estimates for the legislation, the Congressional Budget Office (CBO) never assigned anything more than relatively trivial savings to the ACO concept. But that did not stop the relentless hype by the law’s advocates.

This is not to suggest that the many varied integrated care initiatives underway around the country are without merit. In fact, these initiatives have the potential to make some real headway toward slowing cost growth and improving quality. But they have absolutely nothing to do with Obamacare, were originated by private actors, most often predate Obamacare’s passage (generally by many years), and would continue even if Obamacare’s ACO provisions were repealed entirely.

Obamacare attempts to incentivize ACOs with a new bonus payment system. ACOs that are able to provide care to their patients at costs below what would have otherwise occurred get to keep half of the savings (thus boosting revenue for the participating doctors and hospitals). After two years, they are also supposed to be accountable for cost overruns, meaning ACO doctors and hospitals could face reduced Medicare revenue if they exceed their projected budgets.

But the Obamacare ACO concept suffers from a fatal flaw: the beneficiaries generally have no idea they are even enrolled in an ACO. This was by design. The authors of the law did not want the beneficiaries to be part of the ACO enrollment equation.

Instead of asking the beneficiaries their preferences, the law has a work-around: Medicare beneficiaries are “assigned” to ACOs based on their use of physician services. Medicare administrators comb through the massive claims database, and any beneficiary whose primary doctor joined an ACO is, by definition, also an enrolled member of the same ACO.

This “passive enrollment” system is the result of policy bias and political calculation. For the most part, the supporters of the law are opposed to using consumer choice and competition to control costs in Medicare. They did not want their new ACO model to look anything like the Medicare Advantage (MA) program, the private insurance option in Medicare that about 25 percent of the beneficiaries voluntarily join. If costs are lowered from Obamacare’s ACOs, the only winners are the providers and the government, not the beneficiaries.

This approach to ACO enrollment was a big mistake. It is impossible to run an effectively managed delivery system with an enrolled population that has no incentive whatsoever to stay within that system. Medicare beneficiaries assigned to ACOs are free to get care anywhere they want — and they pay no more for the care they receive outside of the ACOs than for care they get within them.

Recently, the Obama administration tried to pump momentum into its ACO movement by touting the first-year results of the “pioneer” ACOs. These are the hand-picked group of 32 plans selected because they were, for the most, already operating like integrated systems of care long before Obamacare was enacted in 2010. The administration was hoping that these organizations could pick the low-hanging fruit of costly excess in Medicare fee-for-service and show near-term positive results for the ACO experiment, thus building momentum for the concept.

But even the pioneer ACOs struggled to deliver on what was promised. Of the 32 plans that started in the program in 2012, nine have announced they are pulling out because they fear losing money in the future, two increased costs for the Medicare program instead of reduced them, and only eighteen saved enough money relative to projected costs to be paid a small bonus. All in all, the savings is virtually non-existent. At this point, few experts believe the program will live up to the initial hype.

There are far better ways to encourage the spread of high-quality integrated care networks in Medicare. The fastest, surest way would be to create a level competitive playing field with Medicare’s dominant FFS insurance system. This is the premise of the “premium support” model of Medicare reform. Under premium support, private insurance options—the MA plans of today, plus whatever new models may emerge—would compete directly with the government-administered FFS option on a regional basis, and the beneficiaries would select their coverage from the competing plans. Importantly, the government’s contribution to coverage would not increase with higher priced insurance. That means the beneficiaries would have to pay more for expensive plans. The result would be strong incentives for enrollment in options that offer high value at reasonable cost — exactly what well-run integrated systems of care could offer.

For the moment, the premium support model is unlikely to be adopted because the Obama administration prefers a more regulatory approach to Medicare reform. But short of full premium support, progress is still possible.

A first-step Medicare reform should focus on giving provider-run integrated care plans – or Medicare Integrated Networks — the ability to attract beneficiaries in an open enrollment process. In addition to competing based on quality, these plans should also be able to offer reduced premiums to the beneficiaries reflecting the cost savings from more efficient care delivery. The government would be assured of spending no more than it would without the new integrated care option (and potentially a lot less) because it would reduce the amounts paid for services rendered by the integrated plan’s physicians, hospitals, and other service providers to cover, at a minimum, the total amount of reduced premiums paid by the plan’s enrollees. To achieve budget savings, the policy would need only to be calibrated to split the savings between the beneficiaries and the federal government.

The integrated plans could also elect to have the government’s fee-for-service payments sent directly to the plans, and not the doctors and hospitals. This would allow plans to design provider compensation programs without meddling from the Medicare program.

This reform should be paired with a reform of Medicare’s supplemental insurance market. Today, Medigap and retiree wraparound plans can fill in entirely the cost-sharing requirements of Medicare FFS coverage, which drives up costs in FFS. An effective reform would only allow this to continue for beneficiaries enrolled in a Medicare Integrated Network. Beneficiaries who wish to remain in unmanaged fee-for-service could do so, but they would be required to pay some of the cost at the point of service, up to a reasonable out-of-pocket limit.

These reforms would jump start a genuine integrated care program in Medicare by harnessing the beneficiaries’ interest in getting high quality, low cost care.

It is ironic that Obamacare’s authors chose to call what was enacted in the law “accountable care” because the ACOs are not accountable to the beneficiaries who should be rendering judgment on them.

The better approach is to treat seniors as the responsible citizens they are. They should be given real choices and options, and the opportunity to share in the savings from a more productive delivery system. A program built on accountability to patients and consumers will have far more success than one focused on pleasing the government.

James C. Capretta is a senior fellow at the Ethics and Public Policy Center and a visiting fellow at the American Enterprise Institute.